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Week Ahead: Global Inflation Nips at Stocks, Earnings on Tap

Stocks are seeing some of their loftiest gains deflate, and that could continue as investors weigh dozens of major earnings reports and a fresh series of economic news in the week ahead.

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Nearly a quarter of the S&P 500 and about half of the 30 Dow stocks report earnings, including American Express, McDonald's, Johnson and Johnson, Caterpillar and Boeing. The Fed meets Tuesday and Wednesday, and there will be reports on housing, durable goods and fourth quarter GDP. President Obama gives his State of the Union address Tuesday.

Stocks were mostly lower in the past week, though the Dow actually rose 84 points to 11,871. The much broader S&P 500 lost 9 points, or 0.8 percent to 1283. The Nasdaq fared worse, sliding 2.4 percent to 2689, as investors took profits from technology names. The Russell 2000 was the worst performer, ending sharply lower with a 4.3 percent decline to 773.

"I think this has been a much worse week than has been apparent by looking at any of the indexes. Underneath, it was a much worse market," said JPMorgan chief U.S. equities strategist Thomas Lee. "I'm looking at stocks that were pretty popular, falling much greater, and I'm looking at smaller cap names, which typically are examples of risk-taking, doing much worse."

For instance, tech favorites Amazon and Apple both fell 6 percent for the week. Despite strong earnings, Apple lost ground after revealing its CEO Steve Jobs was taking medical leave. Google, also reporting strong earnings, fell 2 percent, and Bank of America, reporting disappointing results, lost 6.5 percent for the week. F5 Networks was down more than 20 percent on negative earnings news.

"It is entirely possible that this is the start of a correction, but I think it's more of a pause," said Lee. "...We think the selloff here is in part a response to inflation. Inflation is more visible in China and Europe, and I think it's going to be more visible here."

"The interesting story is the U.S., because we don't have any tightening bias, so what happens is you're going to get the full benefit of upside to global growth." -JPMorgan Chief US Equities Strategist, Thomas Lee

Midweek, China added to those concerns when it reported CPI eased slightly to 4.6 percent, but fourth quarter GDP was a surprisingly high 9.8 percent. Commodities and stock markets were hit by concerns China would tighten, cooling global growth. Markets are expecting to see China announce further rate hikes.

The worst performing Standard and Poor's sector was the commodities-related materials sector, down 3.3 percent, followed by tech, down 1.7 percent.

"The reason inflation kills bull markets is it usually comes when the economy is overheating, so the response is monetary tightening. From an equities perspective, that's a negative scenario," Lee said. "You have an up tick in inflation in China and it's being met with further tightening and actually emerging markets in general have that problem."

"The interesting story is the U.S., because we don't have any tightening bias, so what happens is you're going to get the full benefit of upside to global growth," he said. He also said as other countries tighten, their currencies rise against the dollar, making U.S. exports cheaper.

Some traders and analysts have been speculating that a pull back in the market is close at hand, but others believe there is enough demand for U.S. stocks to keep any selling in check.

A commodities trader at the New York Mercantile Exchange.
Photo: Oliver Quillia for CNBC.com
A commodities trader at the New York Mercantile Exchange.

"That's an ever present threat to any market, so it's possibly the easiest forecast you can make. Every market is vulnerable to a five to 10 percent correction, unless it's already done it," said Milton Ezrati, Lord Abbett senior economist and market strategist.

"As far as the market is concerned—generally our attitude is we have a pretty good base for a continuation of this rally. While it's always vulnerable to a correction, we would see that as a buying opportunity," he said.

"If you look at the earnings yield of the market, relative to bonds, it looks historically cheap," he said. At about 6 percent on historic earnings, it is about 2.5 percentage points above the 10-year Treasury yield, he added.

Ezrati said it seems that the concerns about state and local government finances may be worrying the stock markets. Spreads on the highest rated munis had widened dramatially in recent weeks, as worried investors bailed out of muni funds, but some of those spreads have narrowed since last week.

Econorama

The Fed is not expected to take any action at its two-day meeting, but it could comment on the economy and inflation outlook. "I don't think it's a big event. The main question is does the tone change and does anyone dissent," said Goldman Sachs economist Andrew Tilton.

Fourth quarter GDP, released Friday, is one of the big numbers of the week. Tilton said he is expecting 3 percent growth. "We should get a significant positive contribution form trade, which would be a shift form what we've seen in the last couple of quarters," he said.

A batch of housing reports are expected, including the S&P Case Shiller home price index on Tuesday; new home sales on Wednesday and pending home sales on Thursday. Durable goods are reported Thursday, as are weekly jobless claims. Consumer confidence is released Tuesday and consumer sentiment is issued Friday. The employment cost index is also released Friday.

There are also three auctions of $35 billion in 2-year notes, $35 billion in 5-year notes, and $29 billion in 7-year notes Tuesday through Thursday.

Europe will also be a focus for markets, but sovereign spreads narrowed and the euro continued to rise as the past week came to a close. Traders said the market perceived real efforts to solve the sovereign crisis, including a plan by Spain to shore up its savings banks.

"The euro has had a very strong recovery across the board, and the market seems to be giving the Europeans a pass right now. My take is this is mostly a short squeeze...I would not be surprised to see things stabilize a little bit and then next week will be important. It should be initially upside on the Euro, but keep your eye out for a failure and a reversal," said Brian Dolan of Forex.com.

The dollar was down 1.8 percent against the euro in the past week. The euro ended at 1.3615.

Obama to Signal on Corporate Tax Rate?

State of the Union

President Obama speaks to the nation Tuesday night, with an improved approval rating of more than 50 percent, from the mid-40s, according to the latest NBC News/Wall Street Journal poll.

Greg Valliere, chief political strategist at Potomac Research Group, expects Obama to display the more centrist posture he has taken of late. "I think he'll indicate a willingness to consider spending cuts, not 'Tea Party' level cuts, but he'll talk about spending restraint," he said.

"I think he'll indicate the top corporate tax rate, which is 35 percent, is too high. It wouldn't be surprising to hear him talk about corporate and individual tax reform and I also think we might hear him talk about entitlement reform, which would be Social Security," Valliere said.

Obama continued his outreach to business Friday, with the nomination of General Electric CEO Jeffrey Immelt, to head his economic advisory board. GE is the parent of CNBC.

"I don't think he'll be particularly specific, and I think he'll say some other things that are friendly to business...I joked that the Republicans get a chance to rebut the president on the State of the Union, and I think many Democrats would like a chance to rebut him. He's going to sound so centrist. There's no question he's found a template to get re-elected. It began in December with the tax cut deal," he said.

Valliere said the speech could be a mild positive for markets.

Earnings Central

Monday's earnings reports include McDonald's in the morning, and American Express , CSX, Amgen , Texas Instruments and VMWare after the closing bell. DuPont , Johnson and Johnson, 3M , Siemens, Travelers, Coach, Corning, Peabody Energy, Kimberly-Clark, Sherwin Williams and U.S. Airways report Tuesday morning. Gilead, Yahoo, JuniperNetworks, Stryker, DeVry and Norfolk Southern report after Tuesday's close.

More big names are on deck Wednesday, with Boeing , Conoco Phillips , United Technologies , SAP, Abbott Labs, Occidental Pete, Xerox, St. Jude Medical and Southern Co, before the opening bell. Afternoon reports are expected Wednesday from Motorola Mobility, Netflix, Starbucks, Symantec, Varian Medical, Citrix Systems, ETrade, Lam Research and Logitech.

AT&T , Caterpillar , Procter and Gamble , AstraZeneca, Colgate-Palmolive, Time Warner Cable, UnderArmour, Potash, Lockheed Martin, JetBlue, Motorola Solutions and Raytheon report Thursday morning. Amazon.com , Microsoft , Verisign, KLA-Tencor and Monster World wide release results Thursday after the bell.

Friday's reports include Chevron, American Electric Power, Arch Coal, Honeywell and Advanced Semi.

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